Although this section of the book (and the one before it on misrepresentation) cover the residual rules of applicable common law, it should be kept in mind that as regards nondisclosure liability policies commonly contain clauses that alter the basic legal position.175 Moreover, it should be noted that significant changes in the law were made under section 138 of the Financial Services and Markets Act 2000 (FSMA), in the form of “rules” and “guidance,” by the Financial Services Authority (FSA).176 However, some of these rules apply only to “consumers” in the sense of natural persons acting for purposes outside their trade, business, or profession.
Nondisclosure is breach of the duty owed by insurer and insured to each other, a duty described as one of good faith,177 a duty to disclose material information. Disclosure itself, particularly in the case of disclosure by an applicant for insurance, means communication of certain information to a certain person, the right person, in the insurance company.178 The right person is the person in the insurance company underwriting the risk (or to some other agent of the insurer who can be expected to pass the information to that person).179 Material information is material fact180 known to the applicant181 at the time of contract.
The issue of disclosure, an allegation of nondisclosure by the insured, usually arises later as a defence to a claim. At that point it is for the insurer to establish the defence: to prove breach of the duty of disclosure and that this induced the insurer to make the contract of insurance.182 However, the insurer’s defence will fail if the insured claimant proves that the fact in issue was one already known also to the insurer183 or that disclosure was waived by the insurer.184
The fact in issue, material fact, is to be distinguished in principle from opinion, a distinction sometimes hard to draw. In the context of nondisclosure, however, the precise point at which one shades into the other is usually unimportant. For example, if a partner in a firm insured has been charged with theft, that amounts to no more than the opinion of the prosecutor that the partner has committed an offence; that has yet to be established as fact by a court of law. Nonetheless, the charge itself is a fact that must be disclosed to a liability insurer.185
Again, if a client or customer of a firm makes an allegation of negligence, that may be no more than an expression of opinion unsupported by any evidence. However, the insurer may well want to know about it, and if, indeed, such an allegation has been made, the allegation is a fact which the insured firm would be well advised to disclose.186 In short, what counts is not whether it is factual but whether it is information that is material.187
Applicants’ integrity is a matter of evident concern to underwriters of liability cover, not least in the case of profession indemnity (PI) cover. If a person has been charged with an offence, that is not a reasonable ground for assuming guilt. However, the risk that that person might present as evidenced by the charge, the “moral hazard,”188 must be disclosed. The moral hazard associated with policyholders is always material and however reluctant applicants may be to mention such matters, disclosure is required. Moreover, the effect of recent (and controversial) litigation is that applicants are also well advised to disclose rumors circulating in the press, however outraged they may be about the press publication, and even though it emerges later that the rumors were utterly untrue. What counts at the time of disclosure is the fact of the rumor.
Such information, it has been held, somewhat controversially, includes rumors “which materially affect the risk, even when these subsequently turn out to have been unfounded.”189 The matter was debated by Colman J in The Grecia Express: on the one hand, he said, it is “unrealistic for underwriters to require disclosure of facts, which the proposer knows to have no bearing on his honesty or integrity, on the basis that a suspicious person when told of those facts might believe that it did have such a bearing.”190 On the other hand, by parity of reasoning,
if the assured knows of facts which, when viewed objectively, suggest on the face of it that facts might exist (“the suggested facts”) which would increase the magnitude of the risk and the known facts would have influenced the judgment of a prudent insurer, the known facts do not cease to be material because it may ultimately be demonstrated that the suggested facts did not exist.191
The applicant does not have to disclose “mere speculations, vague rumours or unreasoned fears.”192 But, if there are what Colman J described as “rumours” having “at least some real substance” when the risk was placed, notwithstanding that the rumor later turns out to have been untrue, these rumors must be disclosed.193 These are facts that he described as “objectively suspicious.”194
In this connection Colman J referred to Morrison v Universal Marine Ins Co195 decided in 1872. In Morrison the applicant read newspaper reports to the effect that a ship, which might have been his ship, and for which he was seeking cover, was aground and in peril. His broker made inquiries at Lloyd’s, concluded that the newspaper report concerned another ship, and did not mention the report to the insurer when concluding the cover. The Court of Exchequer held that the report should have been disclosed.196 Before one can conclude that a rumor is material, however, there are two further considerations to be kept in mind.
The first is that the materiality of a rumor must be judged subject to the possibility raised by Mance LJ in 2003 in Brotherton that, if there had been full disclosure, “it would have embraced all aspects of the insured’s knowledge, including his own statement of his innocence and such independent evidence as he had to support that by the time of placing.”197 As he observed, this might very well “throw a different light” on whether the rumor was material. In other words, argued later, materiality must be judged by reference to all of the evidence available at the time of placing, whether actually disclosed or not. This was the argument accepted subsequently in Meisels,198 in which Tugendhat J pointed to a second consideration. The test of materiality by reference to the prudent insurer, he said, is “an objective test, and the characteristics to be imputed to a prudent insurer are in substance a matter for the courts to decide.” This gives a robust court scope for maneuvre, including “room for a test of proportionality, having regard to the nature of the risk and the moral hazard under consideration.” On that basis there “may be things which are too old, or insufficiently serious to require disclosure.”199 Moreover, by the time the truth is “out,” it may be too late for the insurer conscionably to avoid the contract.200
Misrepresentations are actionable even though what made the misrepresentation untrue was some fact unknown to the applicant. When the allegation is nondisclosure, that some material fact was not disclosed to the insurer, however, that is not actionable in any sense at all without knowledge: the applicant is obliged to disclose only what the applicant knows.201 A person’s knowledge, however, includes not only what is actually known but also what that person can reasonably be expected to know.
What can reasonably be expected includes, first, the knowledge a person can be expected to acquire “in the ordinary course of business,”202 the applicant’s business. Second, it includes what was known to that person’s agents,203 although perhaps not all of them. The relevant agents are the agents, if any, employed to contract the insurance;204 and also any agent employed for some other purpose but whose task includes the channelling or collation of material information.205 The applicant may not know what information has come in; but, knowing that the agent is there to deal with the information, the applicant is expected to ask the agent about it.206
In the common case of a firm, even a small firm, the knowledge of the firm may be composite so that one person is taken to know what is actually known (only) to another person. In Regina Fur,207 one director contracted insurance for the company and the other director, who took little other active part in the company, signed the cheques for premium. The knowledge of the company was held to be the combined knowledge of both directors, so the contract was avoidable for nondisclosure of information known only to the latter.208
In practice between the duty to disclose material information at the time of contracting the insurance is closely connected to the common policy duty to notify later, during the insurance period, a claim against the insured or circumstances likely to give rise to a claim.209 Notification of the latter by the insured is usually what prompts an insurer to review the sufficiency of disclosure at the time of contracting.210 In effect the insurer is underwriting with the benefit of hindsight, a possibility which has been the subject of much criticism.211 In the case of PI cover the vulnerability of the insured firm is made worse because disclosure requires a professional person to admit not only to the insurer but also to others in the firm the fact or possibility of negligence. This may well be true of other kind of liability cover.212
In the case of a partnership joint insurance against partnership liability is likely.213 Traditionally when “two persons are jointly insured and their interests are inseparably connected so that loss or gain necessarily affects them both,” it may well be that “the misconduct of one is sufficient to contaminate the whole insurance.”214 The misconduct might be fraud when making an insurance claim215 or the more immediate point, misrepresentation, or nondisclosure when contracting the insurance concerning, for example, past claims known perhaps to the insured actually contracting but not to coinsured partners or associates. This rule, the traditional “contamination” rule, does not apply to composite coinsurance,216 but it has been kept in England for joint insurance.217 It does not apply in North America. The courts there look mainly to the contract of insurance and its meaning; the result, said the Wisconsin court, depends on whether:
the insureds have promised the same performance, or a separate performance as to each, that is, whether each insured has promised that all insured parties will use reasonable means to preserve the property, or whether each has promised that he or she will protect the property.218
Absent unambiguous provisions to the contrary, the view of the Canadian Supreme Court was that, although the insurance is joint, the reasonable person, “would view the obligations of the insurer as several to each of the persons involved.”219 In Fisher,220 for example, the members of a large Canadian law firm were covered by one policy contracted for them by one “agent.” The application of principles of “agency” was dismissed,221 for, said the court, a more realistic approach could be based on the language of the policy:
Modern law firms frequently comprise dozens, sometimes hundreds, of lawyers. Some are partners, some are employees. The members of the firm in both categories change from time to time, as partners and associates leave or retire, new partners are created, and new associates are employed. The only practical means of insuring against liability, in these circumstances, is for one application to be made by a responsible member of the firm acting on behalf of all the others. If insurers could deny coverage to the hundreds of Canadian lawyers insured in this way, because of the misrepresentation of the individual who filled out the application on their behalf, the consequences to the public and to the profession would be enormous, quite unanticipated, and entirely inconsistent with the practical realities faced by the legal profession and the insurance industry.222
Back in England, the question arose and the answer was similar, albeit in a different context, in Brit Syndicates v Grant Thornton.223 The Court of Appeal held that the cover provided to G, an umbrella organization of accountancy firms, under an extension to a PI policy held by an accountancy firm belonging to the organization, was parasitic, so that avoidance of the PI policy for nondisclosure also defeated the cover under the extension. This was the proper construction, said the Court, even though the policy was a composite policy in the sense that each member firm was insured separately and thus avoidance against one did not avoid as against another.224 G’s appeal against that decision was allowed by the House of Lords,225 where Lord Mance, with whom other members of the House agreed, said that the construction put on the policy by the Court of Appeal was “very odd.”226 What counts for present purposes was that the issue was seen on all sides as one of construction.227
Indeed, the tendency in English courts since 1924 has been to see the question less as one of public policy than as one of construction,228 not unlike the view found in Canada and the USA. That kind of approach is surely one that commands yet greater support when the misconduct is not that of the actual claimant A but of B, a person with whom the claimant is associated, as long as a successful claim by A does not result directly or indirectly in benefit to B; and when one of the risks insured is the fidelity of associates and employees. In the context of such a contract, it may well be that in England, too, the court will now construe joint insurance cover in the “modern” Canadian way. Until this can be predicted with confidence, however, a firm should check that its policy contains an “anti-avoidance clause”: that, in the case of misconduct of this kind by another member of the firm, the insurer shall not be entitled to cancel or avoid the cover as regards the remaining members of the firm insured. Such clauses, commonly found currently, also described as “breach of warranty clauses” and “incontestable clauses,” are likely to be enforced.229
For the defence of nondisclosure the undisclosed information must be material to the risk. Material information is information that “would influence the judgment of a prudent insurer in fixing the premium, or determining whether he will take the risk”: Marine Insurance Act 1906, section 18(2), the rule also for nonmarine insurance. The “prudent insurer” is an insurer of the relevant kind,230 such as a liability insurer, at the time the particular contract of insurance was concluded.231 The test is an objective test.232 As a matter of common sense, there is:
a variety of ways to objectively prove what an underwriter would do in a given situation. The parties could offer the testimony of various underwriters or other risk management experts as to what they would have done in the same situation…. Or the parties could provide of what underwriters have in fact done in the past in similar situations.233
In any event a robust court has scope for scepticism about a defence of nondisclosure, if so minded.
As regards what would “influence” the judgment of the prudent insurer, the undisclosed information does not have to be decisive in the sense that, if it had been disclosed to the insurer, the insurer would have declined the risk or offered different terms; it is enough that a prudent insurer would have considered it relevant.234 Note that, although relevant, the defence of nondisclosure does not apply in respect of information which, clearly, diminishes rather than increases the risk and, it has been held, does not have to be disclosed.235
In the wider context of general contract law, the requirement of materiality has been doubted for misrepresentations.236 Be that as it may, it is clear that there is a requirement of materiality for misrepresentations affecting insurance contracts.
The first reason for that lies in the close connection with the law of nondisclosure for which it is clear that materiality is still a requirement.237 The second is that, even in the general law, materiality still has a role in the discharge of the burden of proof. In a leading case Lord Jessel MR said that if “it is a material representation calculated to induce